Good morning, and welcome to the Centene Second Quarter 2012 Earnings Conference Call. [Operator Instructions] Note, this event is being recorded. I would now like to turn the conference over to Ed Kroll. Please go ahead.

Thank you, operator, and good morning, everyone. Ed Kroll, Senior Vice President, Investor Relations at Centene Corporation. Thank you for joining our second quarter earnings call. Michael Neidorff, Centene's Chairman and Chief Executive Officer; and Bill Scheffel, Executive Vice President and Chief Financial Officer of Centene, will host this morning's call. The call should last about 45 minutes and may also be accessed through our website at centene.com. A replay will be available shortly after this call's completion also at centene.com, or by dialing (877) 344-7529 in the U.S. and Canada, or from other countries, (412) 317-0088. The playback code for both of dial-ins is 10015829. Any remarks that Centene may make about future expectations, plans and prospects constitute forward-looking statements for purposes of the Safe Harbor provision under the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those indicated by these forward-looking statements as a result of various important factors, including those discussed in Centene's most recently filed Form 10-Q dated today, July 24, 2012, and also our other public SEC filings. Centene anticipates that subsequent events and developments will cause its estimates to change. While the company may elect to update these forward-looking statements at some point in the future, we specifically disclaim any obligation to do so. With that, I'd like to turn the call over to our Chairman and CEO, Michael Neidorff. Michael?

Thank you, Ed. Good morning, everyone, and thank you for joining Centene's second quarter earnings call. I want to spend most of my time this morning providing you with a progress report on Centene's return to profitability in June. Additionally, how we are back on track after a confluence of events, which caused us to lower our 2012 guidance last month. Bill will discuss and walk you through the details of our second quarter financials, and then we will answer your questions. The second quarter results came in as we projected at our June Investor Day. Premium and Service revenue growth was very strong, increasing 61% year-over-year, mainly due to the Texas expansion in the new states including Illinois, Louisiana and Kentucky. As we indicated in our June 11th press release, medical costs in Kentucky, the Texas expansion area and our Celtic individual health business are considerably higher. This resulted in an operating loss of $0.16 per diluted share in the second quarter, which is consistent with our revised projections as discussed at the Investor Day. This loss excludes a noncash $0.52 per diluted share impairment charge related to Celtic. It also reflects a return to profitability in the month of June, which was also included in our guidance. The issues that caused the second-quarter loss was state-specific, market- or product-related issues. We view these as episodic and correctable through a combination of rate increases, medical management initiatives and policy changes at the state regulatory level. Historically, we have demonstrated our capability to correct these types of issues in states including Ohio, Florida and Georgia. To be clear, the balance of Centene's portfolio continues to perform within our normalized ranges. I will now provide you with an update on these specific 3 markets and their issues. First, let us discuss…

Thank you, Michael, and good morning. As a recap of our second quarter, we reported a loss from operations of $0.16 per share and a $0.52 impairment charge related to our individual health business and Celtic insurance company. The $0.16 loss from operations is consistent with our disclosures that we communicated during our Investor Day on June 14. Our 2012 revised guidance reflected a decrease of $1.19 in our EPS estimates. And our slides indicated that 60% to 70% of the reduction, or $0.71 to $0.83 per share, would impact the second quarter. And these slides continue to be available for viewing on our website. The revised EPS guidance included in our press release this morning shows our 2012 guidance both including and excluding the impairment charge recorded in the second quarter. But otherwise, the guidance is consistent with the expectations we provided on June 14. Now to review the financial results in detail. For the second quarter of 2012, Premium and Service revenues were almost $2.1 billion compared to $1.3 billion in 2011, representing a 61% increase year-over-year. The $800 million increase reflects the addition of the Illinois, Kentucky and Louisiana operations between years along with the Arizona and Texas expansions, the Ohio pharmacy carve-in and overall membership growth. Our Health Benefits ratio was 92.9% for the second quarter, compared to 84.8% last year and 88.2% in the first quarter of this year. The increase compared to last year reflects a number of issues. First, increased medical costs in the second quarter in Kentucky, resulting from the retro assignment of members and a high level of non-in-patient claims receipts during the quarter. Second, for Texas, we experienced a high level of medical costs related to the March 1 expansion area. And third, a high level of medical costs in…

[Operator Instructions] Our first question comes from Charles Boorady from Crédit Suisse.

Question on guidance. You talked about the rate action in the state of Texas. And specifically in Texas, what are your assumptions on what you can do to improve the cost trend in the state and specifically in Hidalgo?

Yes. I think we've been going through and doing our standard medical management programs, from Healthy Start for Your Baby to every aspect of what we do in every other part of the state. And I just remind you that the first 90 days there was that continuity care, we could do nothing. We're now doing the pre-authorizations. We're looking at medical necessity for procedures as opposed to just simply having to pay with the state had already authorized. So it's really turning from a nonmanagement to now a full-blown medical management program that we use in every other market.

Yes. And so based on that, and you've done this for many, many years. You've been through the continuity care period and then been able to, once they untie your hands, actively manage the care. And so you've got a lot of experience at what that can do to impact the trend. And so are you assuming a similar experience in Hidalgo now? And can you quantify that for us?

Yes. I think my comments in terms of -- we said it's already gaining traction we saw in the month of June. We see by third quarter -- by the fourth quarter full normalized margins within Texas including in Hidalgo county. So it would fall well within our normalized medical loss ratio, G&A and other ranges.

Yes, but that improvement in trend, Michael, if you could just quantify it. Is that a 5%, 10%, 20%? I'm just trying to get a magnitude on...

Yes. Bill, you want to give him...

Yes. We haven't given specific numbers in terms of the improvements. But obviously, the impact of these initiatives, as they gain traction, will increase over the course of the second half of the year. Certainly, where we're now authorizing all of the treatments, we have a standard template that we're using for consistency across the membership. And we're applying that and looking at medical necessity criteria. And there has been a different pattern of usage in the Hidalgo service area versus the rest of the state. And so we are doing everything we can to bring bear -- to bear on that problem. But I don't know that we've quantify specifically how much that will impact the second quarter.

We do see it in our normalized MLR, which we have stated in guidance at, what, 86 to 88 at this point.

Well it's a little higher than the guidance. But I think that the -- because our guidance of HBR is 89% to 90% for the year. But I think that the -- we do expect to improve the trends at Hidalgo. But we still expect them to be above the statewide averages. And it'll take some time before we achieve all of the managed care savings that I think were initially anticipated by the state. And that could be an 18-month period, I think, before those are -- into that range.

Without giving us the exact percent improvement then, maybe you can just give us more qualitatively. Will it be -- is your guidance -- are you highly confident in your ability to hit those targets based on your experience post the 90-day continuity care period in other regions [indiscernible] stretched target? Or...

Yes. I think I will -- Yes. I will unequivocally say yes. We wouldn't put it out there as guidance if we did not believe at this point in time that it was achievable. And so it reflects what we know we've done. And as we've said earlier, and as we said it in -- at the Investor Day, this was really -- some -- a great issue why -- which is why the state took the action that they did. And we see already some traction coming. So yes, I -- we have a high level of continuity [ph]. We have a very experienced management team down there. It's a big book of business. They have a great track record of delivering on those expectations. And I'm trying to stay away from a specific quarter-to-quarter number, but over the short- and longer-term, I see it continuing to be a high-performing state for us. I hope that helps.

Our next question comes from Melissa McGinnis from Morgan Stanley.

I just had a quick question. On the MLR where you are excluding your 3 sort of problem markets of 88.5%, how do we think about that in context relative to the initial guidance range you gave earlier this year for a consolidated MLR of 87% to 88%? Is that just some of the other new markets still pressuring the core MLR up? Is that -- is there any sign of, like, cost trend acceleration in your core book? Any color there would be helpful.

Sure. I think that the 88.5% for the remainder reflects the fact that we do have new operations in several states including Louisiana, for example, where that ramps up and we have higher loss ratios and initial periods of operations. And we can also have some continuity of care issues and we have margin build in the first part of that. So I would say that's -- the numbers that we gave in the past for 87% to 88% was the average for the whole year. And we knew in the first half of the year, it would probably be larger or higher rates and in the second half will be lower as we gain traction in these new markets. Now, again, we're adding some newer markets in Missouri and Washington in the second half, but those tend to be a little smaller compared to what we added in the first half of the year.

And they also were managed-care markets, where the -- so the run-in period will not be as difficult in working with the providers and the educational process.

Right, great. And then could you talk a little bit, I noticed in your 10-Q there was a disclosure that you did in fact run a premium reserve deficiency analysis at the end of the quarter and didn't feel like that was necessary yet. But then there's some commentary about the fact that, while we're making progress in Kentucky, it sounds like there's still a way to go. Can you help us understand at what point or what would have to happen in Kentucky for you to at some point consider doing a premium deficiency reserve in that market?

We do analysis in several of our markets on a regular basis to make sure that -- both we do that for statutory purposes and for GAAP purposes. So the analysis that we performed at the end of the second quarter, particularly for Celtic and Kentucky, were done in accordance with the particular methodology that's required to do that. And in both cases, no premium deficiency reserve was needed at that point in time for those 2 markets. So I think in Kentucky, that's a 3-year contract. We do believe over the long term of the contract, we will make appropriate margins so that we -- at this point in time, the analysis does not indicate that we need a premium deficiency reserve.

And relative to the improvement, we were applying the -- in those areas that we can manage, we're seeing it starting to normalize and it has been normalizing. The issues that are still confronting us were terms of the retro assignment of members. We'll still get occasionally a member from November with the bills in a little bit the premium. And until we correct those kinds of things, we can't see -- we will not see it fully normalize and we hope that it starts to dissipate over time, but we are working with the state on it. They are, as we've said, they're taking some initial actions to make it more balanced in the assignment of these members, which is good public policy. It affects all plans equally . And we are talking now about how they do it and the fact that they really should hold us accountable from the time we learn that the member is ours. So there's things there that they're doing. I think when we get through with the analysis of the data book, it will put us in a position to demonstrate what they need to do that was not included in the data book.

Our next question comes from Justin Lake from JP Morgan.

First, I was hoping you'd -- with those Hidalgo rates, obviously, helpful, but I wanted to see how that broke out between these STAR and STAR+PLUS membership. Can you tell us how those rates shook out specifically?

Bill -- I'll let Bill follow up. There's still a lot of shifting members, where we're to give [ph] another 5,000 members or so, Bill, [ph] as we understand it. So it's difficult to try and give you that with the shifting members because it becomes a weighted thing. But...

Yes, I think ...

I was specifically talking to Hidalgo there, guys. I apologize.

Right, right. And with respect to Texas, in the Hidalgo service area, it's a blended 7.6% increase. And it's obviously much higher in the STAR+PLUS category. I think importantly though, looking at the whole state, we've got a 3.7% increase across our whole book of business. In our whole book of business is north of $3 billion in annual revenue. So we think that this is a meaningful rate increase for us and we believe working with the state, we're in a reasonable position at this time.

I mean there's a lot of public information out there on it. And our hesitation is just simply, as I alluded to, we just learned that there's another 5,000 members coming over to the superior health plan down there. So that's going to change that weighted mix. So rather than -- because once we say something today, then it's going to mandate constant updating of that, so I would rather just say, "This is how it is at the point in time. This is what our guidance is based on. And I think that's a better position to stay in."

Okay. And you know that there's a big difference between the STAR and STAR+PLUS. The STAR being it looks like it's down year-over-year from some records we got from the state. So can you give us any color in terms what the MLR is looking like in STAR? And how comfortable you are that it looks at the state's expecting you to get the further cost savings than even was baked into the initial rates? And how comfortable you are with that?

Yes. I think when you look at it, on balance, we're comfortable with the balance we have in the rates now. And the -- where we saw the biggest deficiency, obviously, was in the STAR+PLUS, and they've worked hard to get where we believe it needs to be. The STAR rates we've been comfortable with, and that balance -- and in plus [ph] across the whole state. Bill, anything you want to add to that?

I think that in these discussions, which usually are actuary-to-actuary, there's the individual components are discussed. For example, there may be a belief that the in-patient portion of the cost could be further reduced in STAR compared to something else and so that's all driven into the individual rates by the -- between STAR and STAR+PLUS for Hidalgo. Overall, at 7.6%, I think that's a meaningful increase for us.

Okay. Just last question on the overall state. You talked about that, the 3.7%. And if we're doing just some rough math correctly, it looks like the x Hidalgo rate was up more than 2% year-over-year. Is that correct?

I don't think we've broken it out. We haven't really broken it out into individual pieces like that for this discussion. I think the weighted number is 3.7% for the whole state and we'll leave at that.

I guess I'm just trying to figure out though, how does that look year-over-year? Because if I remember correctly, the rate was down 2% or 3% last year. Is that correct?

Yes. September 1, 2011, the state did reduce the rates. So this certainly -- the increase that we have for September 1 this year improves the whole state.

Our next question comes from Josh Raskin of Barclays.

Just shifting gears a little bit to Kentucky. The membership was actually down sequentially, so I know you guys were suggesting that you were getting a lot of retroactive assignment. So I'm just curious what was going on with your membership that offset some of these assignments and then should we be reading into the sort of change in procedures that you're expecting a further decline in your membership as we get into September and through the end of the year?

Right. So let Jesse talk to that one, speak to that one.

Yes, Josh. Jesse Hunter. So I think a couple of things in Kentucky, obviously, we have -- in every state there is an ongoing eligibility determination so there will be people that can come on or come off of Medicaid eligibility at any particular time and you've got membership choice and other factors that could impact some movement up and down. So I wouldn't overread to your first question. I wouldn't overread the movement in Kentucky along those lines. But specifically, for retros, we do believe that we've had a disproportionate share of the retros. We've received a disproportionate shares of those. And so with this rebalancing that will be effective on 9/1, we would expect to get less new members via retro assignment and they could have a small impact on the membership side, but an important impact on the cost side in Kentucky.

I guess I was just under the impression that you guys were continuing [indiscernible of this retroactive assignment so [indiscernible] so I mean I understand [indiscernible]

You're breaking up.

Jesse can add to this. But I think what you're saying, I understand, but we are still getting each month the adds. We still get a larger number that -- through the retroactive process than what we would see in any other state. That means it's been as high as 52% level. I don't know for this month, but it's probably staying way up there.

Yes, no. It's directionally roughly half of our members, our new members, are coming in through retro assignment versus as we talked about in June in the low single-digits as an average across our other markets.

And as a reminder, what we've seen is, for that period prior to the time we've had an opportunity to manage the care for these individuals, we've averaged a 200% HBR. Once we have the opportunity to manage the care, the HBR goes way down.

Right. Now that make sense. I guess I was just thinking it just sounds like you have some pretty big offsets in terms of member choice and/or changes in eligibility to end up with a net decline in membership. I mean, is it your understanding that the entire state eligibly has gone down then?

No, I think the membership in aggregate has been reasonably stable. I think, Josh, though it's -- I would not expect it to be broader. Our market share has been relatively flat since the state's gone through their changes and the end of the choice period that happened earlier this year. So we are going to see some changes, slight changes from month-to-month, quarter-to-quarter as it relates to the eligibility process, number of choice, et cetera. What we're talking about is those members that initiated their eligibility process long ago, all the way back to November, we continue to see some of those members come in. And while small in number, they are big in impact.

Okay. I mean it's only 2,000 less sequentially, so not a big deal if those are going somewhere else. I guess second question, if I look at the second half earnings run rate, just using the midpoint of your full-year guidance, obviously excluding the goodwill impairment, you get to a number of about a $1.26 in terms of EPS. So that annualizes to $2.50 of earnings and I understand there's some seasonality. But obviously, you've got some big start-up costs in a bunch of new markets and things like that. So maybe if you could talk just, without specific numbers, headwinds, tailwinds for next year. Would you expect earnings to be better or worse than that run rate? And maybe if, Bill, you could give us a little bit of color on the third quarter? Should we say 3Q '12 is up on a year-over-year basis or not quite there yet?

Sure, Josh. I think you hit on the one thing which I did want to make sure we'd cover, which is third quarter versus fourth quarter. So that as you calculated the math for our earnings for the second half of the year, there still is the impact that this Texas rate increase goes into effect September 1. So we'll have full benefit of that in the fourth quarter and only 1 month benefit of that in the third quarter. So we do believe that you'll see a meaningful difference as the numbers are that are out there show for Q3 and Q4. And so I think if you look at Q4 run rates, and then try to look at that into 2013, I think that's a better indicator of where 2013 would -- to start to look at. And obviously, we have not done anything in terms of putting together 2013 guidance at this point. But we do think that the run rate in the fourth quarter is probably a good starting point for 2013 given the fact that we also have Kansas starting in January of '13 and New Hampshire. And [indiscernible] full year, we have a couple of other states.

I'd add 2 things. In part of it -- in response to the earlier question, I mean, obviously, we believe there's premium adequacy in Texas or we would not have -- we would not be saying that we have agreed to it. We would still -- we would probably still be in discussions, and we have that relationship in Texas. Secondly, I think as you look at it, Kansas as a new state has had managed care, they're adding some new populations but it's still a state that we had some great success in previous times in Kansas with the group of doctors and hospitals that understand how to do it. The other plan that we're starting up in the first quarter is New Hampshire. It's a smaller plan. So the ability to have an impact one way or another is somewhat less, so I think Bill -- what Bill said in terms of looking at what we're talking about, a more normalized fourth quarter carried through with increasing populations, full-year populations for Missouri and other plans that we've been adding, Washington, I think you could see how third Q will start to shape up and we'll give you that guidance in the middle of December.

Got you. So just so I make sure, and those are great points, Michael, that I understand. Bill, you alluded to some of the estimates being out there. I assume that was consensus. There's like a $0.70 number for the street. If you annualize that, obviously, you get to $2.80. Is that what you're saying in terms of a better standpoint than the $2.50 that I alluded to?

I think that -- while I'm not going to do the math for you, I think directionally that is what we're seeing, yes.

We'll give you a hint.

The next question comes from Scott Fidel of Deutsche Bank.

A question just on Kentucky. And any sense from Kentucky, from the state, in terms of how they're taking into account some of the higher medical costs and high acuity that you saw with those retro members in terms of determining your forward risk scores? Clearly, you were negative there in terms of having to pay into the other plans. And any sense on whether that can start to go back to neutral?

Go ahead, Jesse.

Scott, Jesse Hunter. So a couple of points. First on the risk adjustment, obviously, that's a quarterly calculation as we talked about before. Our risk-adjusted rates for 7/1, our risk score, if you will, is consistent for the July 1 rates with what we had for April 1. So we do not expect any changes associated with that for the third quarter. And then just -- as you look more broadly in terms of where the state is, there are some of the things we were talking about, both risk adjustment and then what the action of the state is taking with respect to the distribution of retros are both in the kind of the 0 sum category. So that shifting the membership shifting costs across the MCOs. I think our discussions with the state, as Michael alluded to in his comments, are really at the programmatic level. And we think right now, the issues affect all plans, and the program in totality is not on the successful and sustainable path. So in our conversations with respect to policy changes and other actions, that both we can take and that the state can take, it's in respect to getting the program where it needs to be.

I think, Scott, when we commented that the actuaries are talking with each other about the data book and what's in and what's not in and looking at how to get the data more accurate. Because we're interested in sound public policy. And as Jesse alluded to, we're not asking for anything specific for Centene. We're saying that these are program changes that should apply to the 3 plans that are there and put everybody on a level playing field. And allow us then to manage the risk in a more normalized fashion, what we call normal business practices. So that's where we hope we're headed with the state.

Okay. And just to clarify in terms of the change in how the state's approaching the retro assignment, are they essentially now -- they're going to be shifting some of those retro-assigned numbers that you received into the other 2 plans? Or is it that the state has actually reevaluated some of their eligibility in terms of lowering the amount of members coming into the managed care program?

Scott, it's Jesse. At this point, what they are doing is reallocating the retroactively eligible members across the 3 plans effective September 1. So this would be a go-forward change. You're not changing broadly eligibility process, but changing the distribution. As I mentioned previously, we are getting a disproportionate share of those and we would expect going as effective 9/1 to be getting our proportionate share of those numbers.

Got it. And Jesse, do you have an estimate in terms of like if the percentage -- what percentage of the retro members overall Centene was assuming -- was receiving prior to 9/1? And then going forward what percentage that will be?

Unfortunately, Scott, we're not in a position to share some of that. Those are some of the conversations that we are having as we go with the actuaries data book and other processes. So we're not in a position where we can share that at this point. But we are confident that we are getting a disproportionate share of those today.

Yes. It's fair to say we're asking some of the same questions, Scott.

Okay. Then I had just one last question just on Louisiana. Michael, I know when you ran through some of the rates, you didn't mention them and it looks like there was a negative 3.7% cut there. Can you talk about sort of the environment on the rates in Louisiana and what opportunities, if at all, you have to offset that with?

We've had some solid discussions about it. And Jesse will fill you in on it.

Sure, Scott. So with respect to Louisiana there are some moving parts. And as we talk on a lot of these things, we want to make sure we have kind of finality, if you will, to rates before we talk about those. But there obviously has been discussion broadly about the rates in Louisiana. As we saw -- as we've seen in the number of markets recently, there is a question of both of the gross rate impact and the net rate impact. So what the state is contemplating in conjunction with some of their discussions with CMS on federal matching rates, et cetera, is also adjusting the state fee schedules. And so there, while we anticipate changes to the state fee schedules that would be generally commensurate with the changes in our rates. And so, while we can obviously provide more specificity to that as we get more specificity and finality to it, but I don't think it's fair to say that we would -- I'd be expecting a net 3.7% rate decrease in Louisiana.

The next question comes from Peter Costa of Wells Fargo.

Getting back to Kentucky again. I believe at the Investor Day, you said something like 8% of your in-patient cost was tied to retroactives in November. When we were in December, and then by May that had risen to like 20% of your in-patient costs. So where do you see that going at this point? Is it above 20% now for, say, the month of November at this point? Or if we project forward to September when they start reallocating these members on a, say, more even basis, does that 20% fall to, say, back to 12% or something number like that if it spread evenly?

Well that's yet to be determined how that comes out in terms of the future months and particularly after they change the retro assignment methodology. I think you're correct. What we said is initially in the month of December we recognized 8% of our in-patient costs were from of this. And then by the time we got into May and June, it was 20%. And so I think the amount that we've got after that, while we still get some, has tailed off quite a bit. I mean we're not saying that all of our retro assignment members are going back to November today, but they go back many months not just 30 days, which is typical in other states. So I think that overall, we are encouraged that the state's changing the methodology. It should improve our situation. It's hard to quantify how much until they actually do it.

Let's try it another way. You guys said that you're a 109% loss ratio in Kentucky, I believe. And you expect that to improve 200 to 300 basis points in the second half. 1% or 100 basis points of that would come from the July rate increase. Presumably, the rest is from the 1/4 of the retros. So maybe if we double the remaining 100 to 200 basis points that's a 200 to 400 basis points of improvement sort of on a run rate basis in the fourth quarter from the retros. Is that what we're looking at? Or were there other improvements that you were expecting to get in that fourth quarter from, say, the continuity of care stuff going away and improving managed care?

Of course, there's other things taking place. So we talked with the state, and we mentioned earlier that we looked at in our narcotics and other drugs and things, we've been specifically bringing it in line. And our in-patient is in line. We also have, I alluded to them with my comments, our NICU and emergency room policies and practices. So we're avoiding being a one-trick act here and applying everything we can to bring it back in line. What I think what's key is once we get the retroactivity issue if we get it resolved and build that the kind of standard of practice we see in virtually every other state, then you would see that things would be normalized. That's why we said, it's not been a rate issue, it's a policy issue that needs to come in place.

Yes. And let me just -- what I said in my comments was that for guidance purposes, we have been running 109% at a statutory level since inception. And what we have forecasted for the second half is a 200 to 300 basis point improvement, which obviously takes into account the 1% rate increase in July and the impact of reduced retro assignment of eligible members and some medical management initiatives. We have tried to be somewhat conservative in forecasting marked improvements in Kentucky at this point in time. Hopefully, we'll do better, but we haven't baked in anything greater than what I've indicated of the 200 to 300 basis points.

So if I'm generous even with my numbers, I get to, say, a 104% to 105% run rate in the fourth quarter for your loss ratio. Why then do you not assume that you'd take a premium deficiency charge at this point? Are you counting on those program changes to come through from the state at this point? Or just hoping for them to come through, should I say? And what gives you confidence that you shouldn't take a premium deficiency charge or walk away from the state altogether?

It is a couple things. One is in doing that calculation, we include all the business that we do in Texas or in Kentucky, including our Specialty business and there are certain costs that are not included in that. The fixed costs are not included in the premium deficiency calculation. So again...

They are pretty direct costs.

Right. And so we think that over the term of the contract, we will be in a favorable situation such that we would not have a net loss.

And so in making that calculation, you're not assuming any program changes at this point?

Some minor ones, not major.

Until the state has agreed to it, I'm not going to -- we're not going to show that optimism. As I said, we're going through the data book and what that demonstrates, will have a lot to do with what position we take with the state going forward.

Okay. And just last question, can you go through where we stand with the Georgia RFP timing?

Well it's been delayed. They've added -- they've renewed it for an additional year through July of next year.

Peter, it's Jesse. Just to add to that, there was not, I would say, total clarity at this point with respect to what the state is going to do. We know what they're not going to do, which is, I know they've obviously come out and said that they're going to delay. There are some other questions with respect to potential populations and timing, which are very much open at this point. So it wouldn't be, I think, appropriate for us to give any more specificity than that.

Exactly, so they haven't given you any clarity at this point about what the timing will be for when RFP will come out?

No.

[indiscernible] we speculate on.

Our next question comes from Chris Rigg from Susquehanna.

I just wanted to ask on Kentucky. When I think about the business prospectively, if the retro assignment members are more into line with the norms in other states, does that mean the data book errors that you guys think may have occurred would go away, essentially implying that your rates would be unchanged and your fee schedule going -- the rate increases prospectively would remain as is?

Yes. I'll start with that. We choose not to speculate until we've been through the data book. The actuaries have talked about it and we understand what's there with the state. I mean, we could do a thousand what-ifs and it becomes just a mental gymnastics to some degree because we have to see what the data says. Jesse?

I will just add to that. We're having these conversations, Chris, with the state and the actuaries with respect to the data book. Those 2 conversations are not limited to retros.

Okay. And then in Texas, the rate increases that you guys are targeting or highlighting. Are those net of fee schedule changes or can you just remind us how your rates change relative to the fee schedule or how much your rates are tied to the fee schedule?

Sure. In Texas, I mean, that can change from year to year depending on what actions the state's taking. I think in this particular time, the rate increases were quoting are net increases.

The next question is from David Windley of Jefferies.

I want to turn to the G&A ratio, which in the 2Q dropped a lot and below your guidance for the full year. So, Bill, wondering how we should expect that to trend over the balance of 2012? And in 2Q, I guess, I'm wondering if 2Q benefited from unwinding some 1Q incentive comp accruals?

The second quarter did benefit a little bit from unwinding some longer-term comp accruals that we had and for the second -- what we've given in our guidance is the estimated G&A ratio for the whole year. And so we do get a couple of plans adding in the second of the year and things like that. So right now, we're sticking to what's in the range.

And when we commented, we commented there are some costs in there about bringing up the new plans at Kansas and New Hampshire. So there's -- it's -- you can't say it's all comp or all -- there are some pluses and minuses in there.

Got it, okay. Would it be possible just to kind of give us a picture of how you're entering 3Q? Would it be possible to give us a picture of what June looked like? For example, what was the difference in MLR between the first couple of months of the quarter and the third month of the quarter?

Yes, I think what -- we've been very -- we gave you an indication, we thought it important for you to know that we returned to profitability. But we're going to stay away from any precedent on going month-by-month in talking about because that's a -- it can change from month to month. It's seasonalities and so many different things. We're better talking quarters. We want to be transparent for you and help you, but I'm afraid we might be doing a disservice to everybody trying to go that granularity.

Yes. There can be a difference between a 31-day month or a 30-day month and how many Mondays are in there or holidays and things. So an individual month's HBR is not as important as it is a 90-day would be for a full quarter.

Well we thought what would be important is for you to understand that the episodic issues as we refer to them in the 3 markets, the management, the approach we're taking, how we're doing it, did allow us to return to profitability. And I'm not saying just $0.01 but some reasonable profitability in June.

Okay. A clarification on Kentucky. The 200 to 300 basis-point improvement that you are expecting, I think, a percent of that coming from the rate improvement, is that comparing second half to first half or second half performance versus where you started at inception? Or what should we deem the comparison to be there?

Right. When I said we run 109% inception to-date, I think what we've had to do is pick up additional accruals for these retros. So I think -- we think the inception to-date is probably the best way to look at it at this point in time because that's about an 8-month period. And given the that's been the average run rate for the first 8 months, we're expecting it to be 200 to 300 basis points better than that in the second half.

Okay. And then the final question, as I think about the savings that you are garnering from your G&A actions in 2012, how should I think about those, say, being reinstated moving into 2013?

2 parts. One, I think that the leverage we're getting this year from the additional revenue and spreading the costs over a wider base will continue into 2013 and should accelerate given the additional volume. However, I think the benefit that we had this year from the absence of some of the performance-based compensation will reverse because we would expect to build that back in for 2013. We indicated that's about 80 basis-point impact on the G&A ratio in the second quarter. So for next year, we would add that back in as a starting point.

I might just add, we understand you're working to analyze '13 and we're holding off to December because we'll have a better view of it. Because there'll be other new opportunities that will surface between now and then. So we'll be in a better position to say when it comes to G&A, what's development for other plans, that type of things as well.

The next question comes from Carl McDonald of Citigroup.

I'm interested in what the underlying second quarter loss ratio would've been if we excluded unfavorable development related to Texas, Kentucky individual business if there was any there? So what would that 93% have looked like?

Well we really don't get in trying to break out the amount of development in any particular month or quarter at this point. Obviously, what we've said is in the second quarter and particularly in May, we recognized additional costs with respect to the Kentucky retro assignment issue. In Texas, we didn't start until March 1, so there wasn't a whole lot anything going backwards in Kentucky -- in Texas. That was just recorded in the second quarter based on our own experience.

Okay. And then the -- related question, if we look at the first half loss ratio, 91%, to get to the full-year guidance, you'd have to do something around 88% in the second half. So that 300 basis-point improvement, how much of that would you say is things you know already? So Texas rate increase and some of the changes in Kentucky versus how much of that is things that you still need to see happen?

I think most of it -- I mean, it's out there because it's things we see happening. It's not -- we're not speculating, saying, "Gee, if we were able to push this through or get this approved." No, this is -- -- that's all based on what we see will happen.

The next question comes from Sarah James of Wedbush.

Just going back to Josh's question earlier, as I think about 4Q, Texas MLR should be down with the full-quarter rate increase, Kentucky MLR is expected to come down 200 to 300 basis points in the second half, maybe a little bit better in the fourth quarter than the third, Washington and Missouri should be starting to normalize as we come out of the quarter. So if I were to use that as a general run rate starting point, does that imply based on how you see contracts now for our pricing costs at the starting point MLR for annual MLR for contracts like Kansas or the potential one region in Ohio as being lower than this year's start-up? So maybe back to the standard 90% to 100% range for a first year of operations as opposed to the 110% that we've experienced this year?

Yes. I think it's fair to say that...

Yes. I think that Kentucky was a special situation and I would put that on, over to the side. I think even Texas for the whole year will turn out to be fairly reasonable. And the new markets in general that we will get into, I would start it in 90% HBR plus or minus probably 100 to 200 basis points in those ranges each of the individual states. I think as Michael indicated, in several of these, they are already in managed care. So there's less of that issue to have to deal with. And we think the new markets we're entering are anchored on the 90%.

Picking up some of the dual eligibles in Ohio, it's a market that we're [indiscernible] some new service areas with the new contract, so there'll be some mitigation there of that but we really had to look at it in what we've done there, what's managed care. If there has been managed care as opposed to what we saw in Kentucky where they have had no managed care, a very provider-friendly type environment. And that makes a difference there.

At Investor Day, you mentioned 1/2 to 2/3 of the shortfall in Hidalgo could come from rates, the rest from medical management. So I'm just wondering how the STAR+PLUS rates and I know it's still a range now because of this 5,000 members, but how that compares to what you thought you might get from closing half...

I think it's based on the fact that our guidance has stayed consistent, I would say that it is falling as we would expect it in the various markets.

And last, just a quick clarification. You mentioned earlier on the call that Specialty business in Kentucky is just one of the reasons in favor of staying in the state. Could you just remind us on the size of your Specialty business in Kentucky?

I don't know if we have a specific dollar amount. But obviously we -- in Kentucky, we have our PBM, we have our Behavioral Health business, which are 2 of the larger components. We also have Health and Wellness and our Nurse Triage line.

Nurse Triage Line. There's a whole series of them.

And pretty much all of our normal specialty companies are being utilized in the state of Kentucky.

The next question comes from Michael Baker of Raymond James.

Michael, you indicated the importance of behavioral health in addressing the duals. In your conversations with states, to what degree are they recognizing that? I know obviously Arizona is very far along that path and to what degree do you think they'll kind of follow in that direction in terms of how they establish RFP criteria in select vendors?

So, Michael, it's Jesse Hunter. I think states -- either at the state level and at the CMS level, I think there is a broad and strong recognition of the importance of integration of the behavioral health benefit. And even when you look at these integrated demonstration programs that's both integration of products across Medicaid and Medicare but also across benefits. So behavioral pharmacy and other pieces. So we think that, that will be consistent and I think it will be one of the criteria that states will look to, as well as experience but also the assets and capabilities that the companies like Centene have.

Our next question comes from Scott Green of Bank of America Merrill Lynch.

I think in Investor Day, you implied that the Hidalgo MLR might be around 110% in the second quarter. Is that how it wound up?

I think we're in that ballpark.

Okay. And then you had previously disclosed that you would expect it to wind up in the fourth quarter where it would have an original guidance so that implies somewhere around 90%, I guess? And so the makeup there would be the 7.6% from the rates and then the other 13% or so or 12% from medical management?

Go ahead, Bill.

Yes. I'm not sure what exactly the nature of the question.

You're saying that if it's a 100%...

I was asking if it was a 110% now and it's 90% -- in the low 90s by year-end. I guess the way you get there is this 7.6% reupdate in the fourth quarter. And then the other 12 points or so would be medical management?

Well I mean some of it is medical management, some of it is just the absence of the continuity of care provisions. So we'll benefit from the fact that in that 90-day period we were running higher, which was a lot of the second quarter. And the 110% is probably a little high for the quarter itself. But the rate increase of 7.6% in the Hidalgo area will certainly bend that trend quite a bit and then the absence of continuity of care. And then we are now authorizing the treatments across the board so we do see the utilization trending downwards as we apply our criteria. And overall, again, we still believe that Hidalgo service area will trend down to the more normal areas by the third and fourth quarters.

We're now directing care so that improves costs. We have utilization major issues that were there historically. And I -- if we had a lot of time, I'd give you a lot of examples, they're anecdotal, things that were done that were just incredible, why the state wanted us to come in and the plans come in. So you take the utilization, you take the ability to control, the pricing on some of these things by directing some care. The other overall savings we do, it starts [indiscernible]. It may be reducing the premium. There's a lot of that the brings -- that's all in play now. And things we said we're getting traction on. As we've said, also several times today, the rates were wholly appropriate as we renegotiated them and agreed to with the states.

Okay. That's helpful. And then I have just one question on the dual eligibles. So thinking about how rates might be set at some discount versus fee-for-service, I know you're launching a number of Medicare's net product next year for duals. I was hoping if you could tell us if your bids were below the fee schedule -- the Medicare fee-for-service mark?

Now, Scott, this is Jesse. We haven't gotten into specific comments with respect to our pricing on the Medicare side. So we wouldn't be prepared to comment on that.

I mean, for competitive reasons amongst others, there's no reason to comment at this point.

Yes. I think just -- I mean, directionally as we have said before, the Medicare SNP business, while we have 5 states this year moving to 6 next year, yes, we still expect that portion to be a -- that product to be a small portion of the overall portfolio. And we've got significant focus on the duals opportunities across markets.

Okay. And then one last question. Just trying to reconcile 2 previous comments. I think to the answer of the 1 question, you seemingly implied that $2.80 might be a rough starting point for next year. But then to another question you suggested that around $0.50 of on incentive comp would be added back. So would there just be incremental growth next year? So you feel comfortable that $2.80 is an appropriate starting point? Or should it be -- should we be thinking about $2.80 minus some incentive comp.

I think if we had wanted people to consider less than that, we probably would've said something different than we did. So I think, the information we gave is pretty clear from our starting point. Obviously, it's an all-in starting point. And by the way, that's not my starting point that's some of yours. I'm not saying it's not a decent starting point.

Our next question comes from Tom Carroll of Stifel.

Just a clarification. I think Peter got most of my line of questioning on Kentucky. But, Michael, I just wanted to make a clarification. You very specifically stated in your prepared remarks about Kentucky that the state really needs to make changes in order to kind of fully put that market into, I guess, longer-term profit expectations. So, and I think you said it twice, should we assume that if no changes are made at the state level, that Centene will withdraw from Kentucky prior to the end of its contract?

I think the -- I would make no assumptions. We signed the contracts and in the absence of a breach on their part, we live up to our contracts and we'll manage to [indiscernible]. We're at 18 states now and headed for even more over the next few years. So this can -- we're not going to just walk away unless they're in breach and don't take the corrective actions and that's consistent with the ethics and philosophy of this company.

Okay. So corrective action. Again, if this -- is corrective action synonymous with making policy changes that you're alluding to?

Right. Absolutely. The question for the state of Kentucky that we've posed to them very directly is, If you want to have a sustainable, long-term program as these contracts evaporate and go away, if you want to have people willing to come in and continue to participate, then these are things you have to do that make sense. And we are not asking for anything that's not sound policy. And there are smart people down there. They have experience, so I have no reason to believe that they would not consider and make the changes to get the kind of sustainable program they want. It's not -- if you have people that don't understand what needs to be done, then you have an entirely different environment. But here I have to believe that they're smart and capable and experienced enough to get it done.

Okay. And then on Washington state, I think you mentioned that you expect second half enrollment to approach 50,000 to 60,000. I guess, is that considered a starting point? We had estimated a number a good bit higher than that just given your [indiscernible] contract status. So is that kind of a fully annualized number for the foreseeable future?

I'd say it's a good starting point. We look at it. We're going into states where plans are already have been there. And it takes time to build our reputation and see the shifts take place. So it's just what it is. Jesse, do you want to add something?

Yes. Just I think it's important to note, Tom, that they had, while we were awarded the statewide contract, in the context of our building out our network and the working with the provider community and working with the state, there was one county, a large county, which we did not enter because we -- in the context of discipline on the contracting side, we could not come to terms of an acceptable and sustainable contract with some of the key providers in one of the larger markets. So as a result, our membership has been -- is lower as a starting point than what we had previously contemplated and what you or others may have estimated. But we think that, that was obviously an appropriate action for us to take given our long-term interest in the market. And as Michael indicated, that we think that 50,000 to 60,000 is a good base line and we see an opportunity to grow from there.

Great, okay. So that explains it. Network development is the answer I was looking for.

The next question comes from Justin Lake of JP Morgan.

I just had one quick follow-up. Regarding the acquisition of Amerigroup by WellPoint. Your now 2 largest competitors are, it's going to be United and WellPoint, large companies, tremendous amount of scale, unlimited kind of ability to invest and come up with cash for future growth. How do you think that changes the competitive dynamic relative to, let's call it, the last couple of years where you have United but then a bunch of smaller kind of Medicaid-focused plans. Do you think that's going to have any impact in terms of how the states view this business or what kind of partners the states are looking for and how does that kind of change your view of the world going forward?

That's, I mean, that's [indiscernible] historically. Other larger players have looked at it from time to time. And we don't see that kind of change. I mean, we're very comfortable with what our capabilities are. I remind people we did the original Celtic and the base plan because it gives us the ability to do exchanges, hybrid products and we've been using it very effectively that way. It's some of the legacy business that has been the issue there. So this company with its specialty companies and where it is, I think, we're very comfortable with it. And I've commented historically, I see it being bifurcated with ourselves in a couple of larger players and being in a strong position to be able to deal with it. We're pushing 2.5 million lives now in this business. We're in 18 states. It's diversified. It has a lot of specialty companies. So I'm comfortable that we -- I've said in the past, we have a runway that is long enough for the space shuttle to do touch-and-gos. I've often joked about it. There's still a very long runway there. I think we have the capabilities to continue to do it. And I think as we come out of the issues we faced in Q2, it just further demonstrates that the capabilities of the team and the staff. We were able to go in 2 or 3 days after what we saw as an issue. And we -- it's company policy to always disclose as quickly as we know something. We're able to go into Investor Day within a few short days of that and give you updated guidance and know where we're at. And now here we are 30, 45 days later able to confirm that guidance. So I think it says what our overall capabilities are. That's a long-winded answer. But yes, I think we can continue to compete effectively. That's the Cliff's Notes.

That concludes the question-and-answer session. I'd like to turn the conference back over to Michael Neidorff for any closing remarks.

Sure. We thank you very much, and we look forward to talking with you at the end of Q3. Have a good rest of summer. Thank you.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.